Different Loan Calculations

There are different loan calculations for different types of loans. For example, your mortgage interest is calculated much differently than say your personal loan that you have.

Mortgages

The interest on your home loan is set up to to be paid off first. This means that when first starting out, the lion’s share of your payment goes directly on the interest first. As you make more payments, there is, ever so slowly, an increasing amount of money from each payment that goes towards paying down the principal.

Why so different?

The loan is set up this way to keep the bank’s risk to a minimum and ensure that they get maximum profits out of the larger, long term loan. So when you have a house that costs $100,000 and an interest rate of 6%, that doesn’t mean the bank only makes $6,000 off from your loan. In fact, in some cases, depending on your rate, the bank will actually make more money from interest than the total initial cost of the home!

Car loans

Automobile loan interest is calculated in a similar fashion, however not exactly the same. If you think that by buying a vehicle that costs $10,000 and getting an interest rate of 5% means that your total cost will only be $10,500, think again. Interest isn’t calculated on a loan like that.

This is because the lending institution charges interest on your current balance at the end of each month. Therefore, if you took only two years to pay off your car instead of the five years that was set up, you would save on interest costs because the bank wouldn’t have to hold your loan (lend you money) for those extra three years.

Credit cards

Calculating credit card interest tend to be a rather difficult task these days. This is because they will often go by an “average daily balance”, taking into consideration your recent payment activity, purchases, etc.

How to estimate how much your debt is costing you each month

An easy way to estimate your Visa, Mastercard, Discover, or American Express interest cost is to take your rate and divide by twelve, since the account cycles once a month. So, say your rate was twelve percent; you would divide that by twelve months, then multiply that total by your current balance and viola! There’s your approximated calculation for your monthly interest cost. It looks like this:

Rate: 12%

Rate/12 months: 1%

Balance: $2,000

$2,000 (balance) * .01 (1%)= $20

Therefore, in this particular case, it’s costing you about $20 each month to carry your balance of $2,000. This formula can be helpful when you plan on making a large purchase with your card.